Partnership-Related Items: Back to Reality, Part 2
by Jenni Black
Jenni Black is a managing director in Citrin Cooperman’s national tax office and the practice leader of the tax procedure and controversy practice. She is also a contributing author for Procedurally Taxing.
In this post, Black continues her examination of what it means for an item or amount to be a partnership-related item and the seemingly absurd results produced under the Bipartisan Budget Act of 2015 if the determination of a partnership-related item was based on the facts and circumstances of a particular partnership.
This post reflects the author’s personal views and not necessarily those of Citrin Cooperman.
Part 1 of this article on partnership-related items (PRIs) discussed what it takes to be a PRI under the centralized partnership audit regime enacted by the Bipartisan Budget Act of 2015 (Tax Notes Federal, Mar. 23, 2026, p. 2055). In discussing what it takes for an item or amount to be a PRI that is required to be adjusted at the partnership level under BBA and for which an adjustment could result in an imputed underpayment (IU), part 1 examined what it means to be “relevant” to determining the chapter 1 liability of any person. Part 2 of the article discusses the reality of what would happen if the determination of whether something was a PRI was based on the facts and circumstances of a particular partnership and its partners. In other words, no discussion is complete without a parade of horribles!
Parade of Horribles
If an item or amount, to be “relevant” to determining chapter 1 liability, must have an actual impact on chapter 1 liability before it can be PRI, it stands to reason that, before the IRS could make any adjustment to an item on the partnership’s return, it would need to determine whether the adjustment would impact someone’s chapter 1 liability. That seems to mean it must trace the item through all the tiers of the partnership and review every partner’s return to determine if the proposed adjustment would impact any partner’s tax for that year. And as it says “person” and not “partner,” does the IRS have to look at the impact on non-partners too? If it does not have an actual impact, then it would seem to suggest it would not be a PRI, as it is not relevant to determining chapter 1 tax, which would mean it would have to be adjusted at the partner level. This would create absurd results and the “best” meaning of a statute does not result in “absurd” results. Why are the results absurd?
First, it is not clear whether the adjustment must have a current, as opposed to a potential future, impact on chapter 1 liability. For example, if the IRS audits the partnership and determines the partnership overstated its basis in a nondepreciable asset, can it adjust the item’s basis? It doesn’t have a current impact on chapter 1 liability, but the asset must be disposed of at some point — at which point basis becomes relevant for gain or loss on the disposition (either by the partnership or, if distributed out to a partner, to the partner). Must the IRS wait until this happens before it can adjust the item’s basis? What about adjustments to items that would normally impact chapter 1 tax, but the partners had net operating losses in the current year? The adjustment wouldn’t impact chapter 1 liability in the year under audit but could in a subsequent tax year due to a reduction in the original NOL. In the context of deficiency
procedures, the IRS cannot issue a statutory notice of deficiency unless there is some underreported tax. Therefore, under deficiency procedures, the IRS would not be able to make an adjustment to the taxpayer’s return unless it had an actual increase in the taxpayer’s tax. But BBA isn’t deficiency procedures and in BBA, the IRS is making adjustments to PRIs, not determining a deficiency. In fact, nothing in BBA requires the adjustments to result in an IU; it’s all a matter of whether there should be a change to a PRI.1
Second, and this is the big one, there would be no practical way for the IRS to make any adjustments under BBA. If a potential adjustment had to impact at least one person’s tax liability in the tax year, the IRS could never make adjustments. It would be required to trace the potential (not even actual) adjustment through the tiers, to the ultimate taxpayer, pull that taxpayer’s return, and run the potential adjustment through that person’s return in order to determine if it impacted chapter 1 tax. And if it didn’t? Well, if it’s not a PRI, it’s not adjusted under BBA, which would mean it is adjusted at the partner level. But nothing in BBA holds open any person’s section 6501 period during the pendency of a BBA audit. So, there is a high likelihood that, by the time the IRS traces the potential adjustments, the partners’ section 6501 period would have expired, meaning the adjustment could not be made. There are express rules coordinating BBA with items not adjusted under BBA, such as non-chapter 1 taxes.2 The fact that there are no rules to deal with items that would be PRIs but for the fact that they do not impact an actual person’s chapter 1 liability in a particular tax year (which the IRS could not determine until well into the audit) heavily suggests that this is not a thing. If the statute extends the period of limitations on assessment for things not covered by BBA, which cannot be determined prior to the BBA audit (for example, taxes under chapter 2 and 2A), then the fact that it does not for other similar items (adjustments to
1 See sections 6221(a) (stating that adjustments to PRIs are determined at the partnership level under BBA); 6225(a) (containing rules for adjustments that result in an IU, and those that do not); 6231(a)(3) (authorizing the IRS to issue a notice of any final adjustment resulting from the proceeding).
2 See sections 6501(c)(12), 6241(9).
items on partnership returns that do not have an actual impact on a person’s tax), suggests that Congress did not think such an extension was needed.
No problem you say, the IRS can make it when it does impact liability, right? Well, not necessarily. Each tax year stands alone. If the item does not appear on a future partnership return (like a deduction), the IRS can’t adjust it at the partnership level for that year (that is, if a deduction appears on the 2023 tax return but not on the 2025 tax return, the IRS cannot adjust the 2023 deduction during an audit of the 2025 return). Ok, you say, when the item impacts chapter 1 liability of the person, the IRS can adjust it at the partner level at that point, right? Well, if it’s an item that was on the partnership return (that is, it’s “with respect to the partnership”) and it impacts the liability of any person under chapter 1, it’s a PRI, right? And under section 6221(a), adjustments to PRIs (and any tax attributable to an adjustment to a PRI) must be determined at the partnership level under BBA, right? So, how does the IRS adjust it later? Let’s take an example. On its 2021 tax return, Partnership reported an ordinary loss of $100. The IRS audits Partnership and determines Partnership’s ordinary loss should be $0, not $100. But wait — upon review of the partners’ returns, the IRS discovers that all partners have NOLs. Eliminating Partnership’s $100 loss would not change any person’s chapter 1 liability. Under the rationale that an item must have an actual impact on a person’s chapter 1 tax for the tax year, this means the loss is not a PRI, right? But the IRS can’t adjust the loss at the partner level because it wouldn’t result in a deficiency.3 In 2027 one of the partner’s NOL carryforward has been used to the point at which the partner’s chapter 1 tax would change if the partner had not received an allocation of loss from Partnership in 2021. What can the IRS do now?
If the ordinary loss on Partnership’s 2021 tax return now impacts a specific person’s chapter 1 liability, it is now a PRI under the “actual impact theory,” right? Does this mean that an item that
3 Under TEFRA, there were rules dealing with “oversheltered returns,” which provided a solution to this. See section 6234 (before repeal by BBA).
was once not a PRI, is now a PRI? If it’s a PRI it can only be adjusted at the partnership level and any tax attributable to that adjustment must be assessed and collected at the partnership level. But no adjustments can be made to a partnership tax year if the section 6235 period of limitations on making adjustments has expired for the tax year. In our example, without any special rules like fraud, the section 6235 period for making adjustments for Partnership’s 2021 tax year expired in 2025 and it’s now 2027. This means the IRS cannot make any adjustments to any of Partnership’s PRIs for 2021 and, because the ordinary loss is now a PRI because it impacts someone’s chapter 1 tax, it cannot be adjusted at the partner level. In this case, the IRS may be precluded from making adjustments to items that do not have an actual impact on a specific person’s chapter 1 liability until after the period of limitations on making adjustments to the partnership has expired. If BBA did not apply, the IRS could adjust the partner’s 2027 return as the partner’s section 6501 period would be open for that year and all items could be adjusted directly on the partner’s return. A reading of section 6241(2) which causes this uneven result cannot be the “best” interpretation.
Finally, if something was only a PRI if it impacted an actual person’s chapter 1 tax, this would mean that a particular item would be a PRI for some partnerships for some tax years, and not PRIs for other partnerships in the same situation. Using my example above, the same $100 ordinary loss would be a PRI for Partnership 1 if its partners did not have NOLs but would not be a PRI for Partnership 2 if its partners did (and, as illustrated above, be able to adjust the item in one case but not the other). This would treat similarly situated partnerships differently. The tax laws apply to all taxpayers equally. An interpretation of a statute that applies the statute differently to partnerships in the exact same situation is not the “best” interpretation. BBA audits partnerships, not partners.
The ‘Context’ of BBA
If the “best” reading of what it means to be relevant to determining the chapter 1 liability of any person requires an actual impact on a specific person’s chapter 1 liability for the tax year, the IRS
would be required to trace any potential adjustments through the tiers and determine if any person’s chapter 1 tax would be impacted or else it couldn’t make the adjustment, even if the adjustment could never be made in the future. That is an absurd result and clearly not the “best” reading of the statute. In fact, this problem was the exact reason why BBA was enacted. BBA was enacted to cure some of the problems from the 1982 Tax Equity and Fiscal Responsibility Act — most specifically, the fact that the IRS had to trace the adjustments made in a TEFRA partnershiplevel proceeding through the upper tiers and determine each partner’s tax effect from the adjustments. Yet requiring an actual tax impact before something is “relevant” is even more burdensome than TEFRA. How can it be the “best” reading of BBA if it was the exact problem BBA was enacted to fix?4
The Joint Committee on Taxation blue book describing the Tax Technical Corrections Act of 2018, which amended BBA to include the term “partnership-related item” (previously, the statute applied to adjustments to “items of income, gain, loss, deduction, or credit” — as the Tax Technical Corrections Act changed it from items of income, gain, loss, deduction, or credit to partnership-related item, those two terms clearly do not mean the same thing), states that BBA is “not narrower than [TEFRA], but rather, [is] intended to have a scope sufficient to address those items described as partnership items, affected items, and computational items in the TEFRA context . . . as well as any other items meeting the statutory definition of [PRI].”5 Under TEFRA, an adjustment did not have to impact any partner’s tax in order to adjust the item at the partnership level. To read BBA to impose this requirement would mean that BBA was narrower than TEFRA. The JCT blue book does not suggest an item must have an actual impact on chapter 1 taxes for the year of adjustment in order for the item to be a PRI.
4 See Government Accountability Office, “Large Partnerships: With Growing Number of Partnerships, IRS Needs to Improve Audit Efficiency,” GAO-14-732 (Sept. 2014).
5 JCT, “General Explanation of Certain Tax Legislation Enacted by the 115th Congress,” JCS-2-19, at 149 (Oct. 2019).
Whether an adjustment would be relevant to determining the tax liability of any person under chapter 1 has nothing to do with whether an adjustment is to a “non-income item” (that is, an item that is not an item of income, gain, loss, deduction, or credit) although this discussion comes up a lot in the context of “non-income item” adjustments. What do I think it means to be relevant in determining the tax liability of any person under chapter 1? Perhaps not surprisingly, I think it means what it says in reg. section 301.6241-1(a)(6)(iv) — that something is relevant to determining the tax liability of any person under chapter 1 if the item or amount can impact chapter 1 liability under the code. As discussed in part 1, for something to be “relevant,” it doesn’t have to directly prove something; it just has to be connected to, useful in proving or disproving, the item at issue, or the type of circumstance in which chapter 1 liability could be impacted. If an item or amount can impact chapter 1 liability of any person (not a specific person), it is certainly connected to tax liability of people under chapter 1 and would be useful in proving or disproving whether any person had any chapter 1 liability stemming from the item.
In order for BBA to work, it has to be administrable. And part of being administrable is the ability to make adjustments that are meaningful in an efficient manner. Whatever the answer may be (if it’s not what’s there already), what does not seem to work is to require an item or amount to have an actual impact on a person’s liability before it can be a PRI.
